Euro Tremors Risk Market Respite on Spain-Italy, Banks

A total of 27 financial institutions will use the second opportunity for early repayment of the initial three-year loan, the Frankfurt-based ECB said in a statement today. Photographer: Ralph Orlowski/Bloomberg

Rajoy, facing opposition calls to resign amid contested
reports about illegal payments, traveled to Berlin today as
euro-area leaders schedule a flurry of meetings this week ahead
of a Feb. 7-8 European Union summit. Last week’s nationalization
of the Netherlands’ fourth-largest bank and a 2.17 billion-euro
($3 billion) loss at Deutsche Bank AG underscore the fragile
economic health in the region.

“The euro crisis is not over,” German Finance Minister
Wolfgang Schaeuble said Feb. 1 at the Munich Security Conference
where fellow panelists included Deutsche Bank co-Chief Executive
Officer Anshu Jain. Still, “we’re in a much better position
than we were a year ago,” the minister said.

A sluggish economy, uncertainty over the outcome of this
month’s Italian election and Rajoy’s new troubles threaten to
curtail the time won by politicians with the central-bank bond
buying. For now, European policy makers have room to maneuver as
borrowing costs for indebted nations have fallen and investor
confidence returns.

In Madrid, opposition leader Alfredo Perez Rubalcaba said
Rajoy should resign after reports in El Pais newspaper that he
or members of his People’s Party received illegal payments.
Rajoy said Feb. 2 that the allegations are unfounded and stem
from unknown people trying to damage his party.

“It’s false, I have never received or shared out illegal
payments within the party or anywhere else,” Rajoy told
reporters in the Spanish capital. El Pais had reproduced what it
said were handwritten extracts from ledgers detailing payments
to party officials, including the prime minister.

Rajoy has imposed the harshest austerity measures in
Spain’s democratic history to curb the budget deficit and lower
borrowing costs.

German Backing

In Berlin, German Chancellor Angela Merkel backed Rajoy,
saying, “I’m convinced that the Spanish government and Mariano
Rajoy as prime minister can resolve this task -- and Germany
will assist him with all of our strength.”

The surge by Italy’s former premier, who was pressured to
resign in 2011 amid soaring bond yields, threatens Bersani’s
ability to win a majority even if he remains ahead in the polls.
Berlusconi has pledged to refund a tax on primary residences
imposed by his successor, Prime Minister Mario Monti. Voting
takes place on Feb. 24-25.

“Berlusconi wants to buy the votes of Italians with the
money that Italians had to turn over to cover up the shortfall
left in the public accounts by Berlusconi, who governed for
eight of the past 10 years,” Monti said today on RTL radio.

Monti has won plaudits from his counterparts for imposing
austerity measures that helped temper the crisis.

“The markets have saluted” developments in the euro area,
French President Francois Hollande said upon meeting Monti in
Paris yesterday.

Deutsche Bank’s Jain lauded Germany’s pro-austerity
policies and the European Central Bank’s commitment to limitless
bond purchases as catalysts for bringing the 17-member currency
past the “acute” stage of the crisis.

Default Probabilities

“Thank God the acute phase of the crisis is over because
we were flirting with the edge of the precipice for entirely too
long,” Jain said at the Munich conference. Still, implied
default probabilities in Italy and Spain that were at 50 percent
last July are still as high as 20 percent, he said.

Those levels “on countries which owe the world 2 trillion
euros is still very much a worry,” Jain said.

Frankfurt-based Deutsche Bank, Europe’s biggest lender by
assets, reported a fourth-quarter loss on Jan. 31 that exceeded
estimates after it eliminated more than 1,400 jobs and set aside
1 billion euros for legal expenses. The next day, Credit
Agricole SA, France’s No. 3 bank by market value, said it’ll
book 2.68 billion euros in goodwill writedowns to reflect
stricter rules and a worsening economy in the region.

Dutch Takeover

The European banking landscape dimmed further when the
Dutch government took control of SNS Reaal NV for 3.7 billion
euros after real-estate losses brought the lender to the brink
of collapse. The lender had been left struggling to repay a
government bailout before next year’s deadline.

“Banks still are a very weak link in Europe’s recovery,”
said Bas Jacobs, a professor of economics at the Erasmus
University of Rotterdam. “Not enough losses have been written
off. Eurobanks with impaired balance sheets become zombiebanks,
which reduce lending to make up for those losses.”

Teetering banks are also the central issue in a bailout for
Cyprus, which will be the euro-area’s fifth. As European leaders
hold off on a rescue agreement for the Mediterranean island
nation, a report cited by Nicosia-based broadcaster Sigma placed
the worst-case scenario for recapitalizing Cyprus’s lenders at
9.2 billion euros.

That would make the country’s debt unsustainable, Sigma
reported yesterday, citing a Pimco report.

Joachim Fels, chief economist at Morgan Stanley in London,
cited concerns over a Cyprus bailout and possible debt
writedowns that could again roil markets.

“I worry about a resurfacing of worries about bail-ins for
bank creditors in Cyprus and even about euro exit, which could
easily lead to another bout of the euro crisis,” Fels wrote in
a note to clients yesterday.